Mises Wire

Socialism, Capital, and Venezuela’s Oil

Amidst the current social and political turmoil in Venezuela, a discussion over what could drive a foreign military intervention in the country has been making headlines lately. To my surprise, Venezuela’s oil reserves ( the largest in the world ) are among the top reasons people believe the US Government would be after. However, the current shape of the oil industry and the way the market is behaving suggest otherwise.

No matter how large, Venezuela’s oil reserves are economically unattractive, at least under the current state of both the industry and the South American nation.

Fortunately, we live no longer in the 70’s or 80’s, where oil was used as a pretext (a rather immoral one) for sending troops to oil-rich countries in the Middle East. In 2019, conversely, OPEC has lost geopolitical power , thus has less influence on the market; oil prices are somewhat stable, and the shale-oil producers in the US have managed to lower their breakeven, which has made them stronger global challengers.

Any sensible investor would bet their money where it likely yields profit. Moreover, in Venezuela, existing capital has fled the country, and new investments are unlikely to land on a place with no rule of law and where people struggle to get food and other basic goods.

But even if the decision came down to either adding a rig on a Texan field or starting an oil exploration project in Venezuela, it would be much wiser to improve the efficiency of what’s currently being produced —and working well— rather than going for the long shot amid blindness.

To assess the relative economic importance of each option, we must think like investors. Let’s start with the basics: BP provides a clear and simple disclaimer for the definition of “oil reserves”, it reads:

“Nobody knows or can know how much oil exists under the earth’s surface or how much it will be possible to produce in the future”.

The above confirms a maxim of business: risk and uncertainty. Now, to understand the extend of both in our exercise, have in mind that some oil reserves are buried under virgin, unexploited fields, which in turn will demand a massive investment. You’d have to start from scratch. In the same way, consider this additional challenge: drilling for oil is one thing, but securing a place for all those barrels in the refining market is another. Think 2019, not 1980.

Now let’s compare the historical production of both nations. From 2007 to 2017 (note that Venezuela’s socialist regime started in 1998), oil production in Venezuela plunged. Daily production declined about one million barrels if we compare 2017’s output to that from 2007. Conversely, OPEC’s oil production increased in four million barrels along the same period.

When the so-called owner of the largest proven oil reserves of the planet is unable to keep up with oil demand, that should raise a red flag.

Oil output brings us to look at the efficiency of each party. While Venezuela’s state-owned oil company has been struggling to meet production objectives , failing to honor contractual commitments with buyers, the shale-oil producers in the US have managed to re-design their business strategies and business models, and succeeded in adapting to the new “lower-for-longer” trade prices.

Given these facts, where would you invest? What scenario is more attractive —or less risky for that matter—: Venezuela with the largest oil reserves, or the United States, the largest oil producer? Well, it all comes down to a cost-benefit analysis. On one side there are indeed 300B barrels of oil underground , but even if only a fraction of that was extracted, an investor would have to incur huge costs and bear risks that go beyond the industry-related ones. On the American side, in contrast, you have much fewer reserves to exploit, but there’s already existing working capital, technology, know-how and even the option of dealing directly with the owner of the land (mineral rights play a decisive role).

In short, American producers are exploiting their reserves while Venezuela’s reserves are idle and buried. It’s a no-brainer.

It’s also important to note that the socialist regime in Venezuela disregards the fact that capital needs to be renewed. Instead, they believe that printing money will keep the nation afloat. This is one of the original mistakes of a central planner. Paper money itself does not attract investors.

Fiat money is not capital.

To better understand the role of capital, let me use a hypothetical situation to explain it. Imagine that a certain amount of oil has been found in Mars. For the sake of the example, assume that you have been chosen to decide what to send on the very first cargo ship to the Red Planet. The goal is to ensure that oil is extracted in the most efficient way. Be aware that the room inside the ship is limited. What would you rather send? Hundreds of suitcases full of the currency of your choice, or drills with their bits, computers with top-notch software, pumps, a kit for setting up an internet connection and as much knowledge as possible (books, manuals, drawings, etc.)?

No matter how much oil there is underground. If capital is absent, “proven reserves” are nothing more than a number on a chart. As Mises pointed out: “ In a socialist economy there are capital goods, but no capital “.

One can hardly think of a single legitimate reason to use tax dollars for invading a nation. Though among the silliest, “the-largest-oil-reserves-in-the-planet” argument is on top of the list.

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